The following item is a Memorandum of Economic and Financial Policies of the
government of Indonesia, which
describes the
policies that Indonesia intends to implement in the context of its request for financial support
from the IMF. The
document, which is the property of Indonesia, is being made available on the IMF website by
agreement with the member as a service to users of the IMF website.

Jakarta, Indonesia
January 15, 1998

Indonesia—Memorandum of Economic and Financial
Policies

I. BACKGROUND

1. For the past several decades, prudent macroeconomic policies and continuing
structural reforms have kept Indonesia on a path of rapid economic development. Since the
1970s, economic growth has averaged 7 percent per annum, raising GDP per capita toward
the level of middle income countries, while dramatically lowering the incidence of poverty.
The economic structure has become diversified, as dependency on the oil sector has declined
and an export-oriented manufacturing base has emerged, led by a dynamic private sector and
fueled by high domestic savings and large inflows of foreign direct investment. Meanwhile,
macroeconomic balance has been maintained: the budget has been balanced; inflation has
been contained at relatively low levels; current account deficits have been kept moderate; and
international reserves have remained at comfortable levels.

2. Despite this strong macroeconomic performance, a number of underlying weaknesses
have made the country vulnerable to adverse external shocks. Structural rigidities arising
from regulations in domestic trade and import monopolies have impeded economic efficiency
and competitiveness. At the same time, the relative stability of the rupiah during most of the
1990s, together with high rates of return on domestic investment, both encouraged and
facilitated high levels of overseas borrowing, a significant portion of which has been private
short-term debt that has been unhedged. By end-December 1997, Indonesia’s external
debt stood at $140 billion (about two-thirds of GDP), of which $20 billion was short term,
while its debt service has remained close to one-third of exports of goods and services. Also,
the rapid expansion of the financial system since the late 1980s has left a number of banks
with significant amounts of nonperforming loans, straining their liquidity and, in a number of
cases, undermining their financial viability.

3. In the wake of the recent currency turmoil in the region, the exchange rate has
depreciated to alarming levels. From mid-July last year to early January this year, the
cumulative depreciation of the rupiah reached 70 percent, with over half of this decline
occurring since the end of November, while the fall in the Jakarta stock exchange index
reached 50 percent, both the largest declines in the region. The enormous depreciation of the
rupiah did not seem to stem from macroeconomic imbalances, which remained quite modest.
Instead, the large depreciation reflected a severe loss of confidence in the currency, the
financial sector, and the overall economy.

4. The plummeting of the rupiah has led to very large increases in the rupiah debt service
costs of banks and corporations that had borrowed—largely without
hedging—from abroad. Moreover, since the currency depreciation has engendered a
substantial rise in domestic interest rates, the burden of paying for, and collecting, domestic
currency loans has also increased, further straining the position of corporations and financial
institutions, particularly those that were already weak. A major concern for the government
is that the process has become self-reinforcing: growing strains on firms have amplified
investor uncertainty and encouraged capital flight, thereby intensifying pressures on the
exchange rate and domestic interest rates.

5. From the outset of the currency crisis, the government has taken strong corrective
action. To discourage speculative attacks, the exchange rate band was widened in July and,
in August, in the face of continued pressure on the currency, the rupiah was allowed to float.
This policy was backed by a significant tightening of liquidity conditions and an
announcement that the budget surplus would be preserved by postponing major infrastructure
projects, cutting low priority development programs, and extending the coverage of the
luxury sales tax. At the same time, import tariffs on over 150 items (mainly raw materials
and other intermediate goods) were reduced effective mid-September, while the 49 percent
limit on foreign holdings of listed shares was abolished. Further trade liberalization
measures, including removing monopoly restrictions on agricultural imports were announced
in November last year. These actions, however, were not sufficient to restore confidence in
the rupiah and the economy.

II. THE POLICY FRAMEWORK

6. In November, in the context of an IMF-supported program, the government put in
place a comprehensive policy package to restore confidence and arrest the decline of the
rupiah. Fiscal policy was formulated to preserve a budget surplus of about 1 percent of GDP
while monetary policy aimed at containing inflation and supporting the exchange rate. These
policies were to provide the supportive macroeconomic framework for the continuing efforts
to restructure the financial sector and accelerate structural reforms.

7. However, following a short-lived strengthening, the rupiah plummeted owing to a
combination of contagion from currency turmoil in the region, political developments, and
other uncertainties. It is now clear that the original macroeconomic targets cannot be realized.
Under current volatile conditions, it is difficult to set precise macroeconomic targets.
Nevertheless the program is designed to avoid a decline in output, while limiting inflation to
about 20 percent, which, although high by Indonesian standards, is unavoidable given the
substantial depreciation of the rupiah. At the same time, the external current account balance
is expected to move from a deficit in 1997/98 to a surplus in 1998/99.

A. Macroeconomic Policies

Fiscal Policy

8. The government is fully committed to maintaining a sound fiscal policy. However,
with the sharp depreciation of the rupiah and the deterioration in the economy, it is no longer
feasible to aim at a surplus of 1 percent of GDP in 1998/99. The budget has therefore been
framed to strike an appropriate balance between preventing undue deterioration of the fiscal
position and avoiding an excessive fiscal contraction. Accordingly, the government is
determined to follow its long-standing policy of a balanced budget (in the Indonesian
presentation), which avoids any recourse to domestic financing. The corresponding deficit in
the IMF presentation is about 1 percent of GDP. To realize this objective, the government has
strengthened the budget introduced on January 6 by adopting new measures.

9. To reduce economic distortions, and strengthen the fiscal position, the government
intends to adjust administered prices with the aim of gradually eliminating subsidies on fuel
and electricity. As the price increases necessary to eliminate these subsidies are very large
owing to the depreciation, it is not feasible to bring domestic prices to the level of
international prices abruptly. The government will therefore aim to eliminate these subsidies
gradually over the course of the program, starting with the sizable initial adjustment in April
1, 1998 in fuel and electricity prices, except for prices of kerosene and diesel fuel, where
increases will be kept to a minimum so as to protect the poor.

10. On the revenue side, the government has already announced increases in excises on
alcohol and tobacco, which will effectively raise revenue from these items by 80 percent and
10 percent, respectively. These excises will be increased further on July 1, 1998 to reflect
exchange rate and price developments. In addition, effective April 1, 1998, the government
will remove all VAT exemptions (apart from those on capital goods or those explicitly
mandated by law); these include, inter alia, electricity for private companies, taxis, soybean
food for cattle, sugar, personal goods, medical equipment, and other machinery and capital
equipment. All VAT exemption arrangements will be reviewed regularly. With regard to
other taxes, a 5 percent local sales tax on gasoline will be introduced on April 1, 1998 and the
number of goods subject to the luxury sales tax will be increased. The government will also
shortly increase the proportion of the market value of land and buildings assessable for tax to
40 percent for plantations and forestry property.

11. In order to improve tax administration and the structure of the tax system, the
government has introduced a single taxpayer registration number which will come into effect
on April 1, 1998. Further planned improvements, in line with recommendations of the Fiscal
Affairs Department of the IMF, to increase non-oil tax revenue, include: (i) raising the annual
audit coverage; (ii) developing improved VAT audit programs to target large potential
taxpayers; and (iii) increasing the recovery of tax arrears. To accelerate progress in this area,
the government intends to request further technical assistance from the Fund.

12. To ensure the quality and durability of the fiscal reform, the government will move to
a comprehensive and transparent system to report on the public sector financial position,
particularly including quasi-fiscal operations. Accordingly, the government has decided to
accelerate provisions under the Nontax Revenue Law of May 1997 which require all
off-budget funds to be incorporated in the budget within five years. The accounts of the two
large off-budget accounts, the Investment Fund and the Reforestation Fund, will be
incorporated in the central government budget at the beginning of the 1998/99 fiscal year. In
the specific case of the Reforestation Fund, the government will ensure that the funds are
used exclusively for their intended purpose of financing reforestation programs, which
include those outside the concessional forest areas, development of industrial forestry areas,
reforestation of unproductive land, and other reforestation programs.

13. In recognition of the serious financial crisis facing Indonesia, the government has
canceled 12 major infrastructure projects that had been reinstated earlier, including the
Tanjung Jati-C power plant. The government has also decided to discontinue immediately
any special tax, customs, or credit privileges granted to the National Car. In any event, the
government will implement ahead of schedule the ruling of the WTO dispute panel.
Moreover, consistent with Indonesia’s commitment to the WTO, the local content
program for motor vehicles, which gives preferential tariff rates to vehicle manufacturers
using a high percentage of local parts, will be phased out by 2000. It has also decided to
discontinue immediately any budgetary and extrabudgetary support and credit privileges
granted to IPTN projects.

Monetary and Exchange Rate Policy

14. Since the crisis began, Bank Indonesia’s monetary strategy has been to support
the rupiah exchange rate, and limit any increase in inflation, by maintaining a firm monetary
stance. The execution of this policy, however, has been hampered by problems in the banking
system. Following the closure of 16 insolvent banks in November last year, customers
concerned about the safety of private banks have been shifting sizeable amounts of deposits
to state and foreign banks, while some have been withdrawing funds from the banking system
entirely.

15. These movements in deposits have greatly complicated the task of monetary policy,
because they have led to a bifurcation of the banking system. By mid-November, a large
number of banks were facing growing liquidity shortages, and were unable to obtain
sufficient funds in the interbank market to cover this gap, even after paying interest rates
ranging up to 75 percent. At the same time, another smaller group of banks were becoming
increasingly liquid, and were trading among themselves at a relatively low JIBOR (Jakarta
Interbank Offer Rate) of about 15 percent. As this segmentation continued to increase, while
the stress on the banking system intensified, Bank Indonesia was compelled to act. It
provided banks in distress with liquidity support, while withdrawing funds from banks with
excess liquidity, thereby raising JIBOR to over 30 percent in early December, where it has
since remained.

16. Nevertheless, despite this increase in interest rates—to levels higher than in any
other country in the region—the problems of the rupiah have only intensified. From
early December to early January, the exchange rate lost a further 53 percent of its external
value, falling from around Rp 3,700 per U.S. dollar to around Rp 8,000 per U.S. dollar. Part
of the reason was that the rupiah was affected by the financial turmoil in other neighboring
countries. Another factor was that markets became increasingly concerned about the
deterioration in Indonesia’s economic situation, which has weakened the financial
health of the banking system and the corporate sector. Most of all, however, markets were
concerned that the program originally designed in November was no longer sufficient to
overcome the country’s economic predicament.

17. With the overall policy package that has recently been adopted, and set out in this
Memorandum, the government is now convinced that confidence in the economic direction
of the country will be speedily restored. And as this occurs, the exchange rate of the rupiah
will finally stabilize. However, during the transitional period, in which confidence is taking
hold, lingering concerns about exchange rate depreciation are likely to keep market interest
rates at high levels. Bank Indonesia recognizes that, in these circumstances, it will need to
keep its own interest rates high, as well. Accordingly, Bank Indonesia is raising interest rates
on SBI (central bank) certificates across the entire spectrum of maturities, from overnight to
one year, thereby bringing them in line with conditions prevailing in the money
market—and sending a clear message to financial markets that it will maintain a firm
monetary stance for as long as proves necessary. At the same time, Bank Indonesia is also
providing full autonomy to state banks to adjust rates on credit and deposit liabilities, so that
their rates could also reflect developments in money and credit markets.

18. This tight monetary stance will inevitably mean that, at least for the time being, the
amount of credit available for lending to the corporate sector will remain constrained and the
cost of credit will remain very high. Such a situation will place a particular burden on smaller
enterprises, which rely on bank credit for their sole source of financing. To alleviate this
burden, the government has introduced a temporary program under which credit will be
provided to small-scale enterprises through the state banks at subsidized interest rates. The
cost of the subsidy will be borne not by the state banks, but rather by the central government
budget. A facility will also be established to extend credit to exporters at commercial terms.
Eventually, though, these arrangements should prove redundant, since once confidence is
fully restored and the exchange rate stability is regained, then funds should flow back into the
banking system and the overall policy stance can be relaxed gradually, thereby providing
greater room for banks to expand credit and lower their interest rates—for all firms.

19. Bank Indonesia’s financial program has been formulated in the context of
extremely uncertain financial conditions, including with regard to the demand for monetary
aggregates. Over the course of 1997, the growth of broader monetary aggregates, slowed
considerably, with M2 growth falling from year-on-year rates of 25 1/2 percent in June to 23
percent by November. At the same time, the money multiplier has fallen sharply, partly
because there has been a marked increase in the demand for currency, as concerns grew over
the scale of banking sector difficulties, but also because financial intermediation has
declined, as banks become more reluctant to lend. Consequently, even though base money
growth exceeded the program objective, broad money was well within the December
target.

20. Bank Indonesia has established, in consultation with the Fund, a financial program
for 1998, to ensure that monetary policy continues to operate within a well-defined
framework, with a clear inflation objective. This program aims to contain inflation to less
than 20 percent, implying that policy will ensure that there is only a limited pass through of
the very substantial depreciation onto the prices of imports, and only a muted impact of the
drought on food prices. To achieve this ambitious objective, Bank Indonesia plans to limit the
growth of broad money to 16 percent in 1998. As in 1997, broad money growth targets will
be attained by controlling base money, rather than by relying on direct quantitative lending
targets.

21. This monetary strategy will be complemented by judicious foreign exchange
intervention to stabilize and support the exchange rate. The scale of this intervention will be
determined in close consultation with IMF staff, and will also be subject to Bank Indonesia
maintaining net international reserves above the monthly and quarterly floors specified in the
program. As in our previous Memorandum on Economic and Financial Policies, any
sterilization of exchange market intervention will be strictly limited so as to ensure that
monetary conditions become firmer as the scale of intervention increases.

22. Bank Indonesia will immediately be given autonomy in formulating and
implementing monetary policy. To ensure that the central bank remains accountable, the
inflation objective will continue to be decided by the government as a whole, but the policies
for achieving this objective, such as changes in official interest rates, will be determined
solely by the central bank. To institutionalize the autonomy of the central bank, a draft law
will be submitted to Parliament by the end of 1998, which will also include changes in the
composition and mandate of the Monetary Board.

B. Financial Sector Restructuring

Bank restructuring program

23.. The government has already taken decisive action to implement a comprehensive
program of bank restructuring aimed at restoring the soundness of the banking system. On
November 1, 1997, sixteen insolvent banks were closed. The bank closures made it clear to
the market that owners would lose their stake in banks that become unviable. A number of
other banks, including regional development banks, have been placed under intensive
supervision by the central bank. Rehabilitation plans for some of these banks have been
approved by the central bank and are being implemented, while others are still under
preparation.

24. However, the continued depreciation of the rupiah, the slowdown in growth, and high
interest rates since then have led to a marked deterioration of the financial condition of the
remaining banks. This deterioration has been exacerbated by deposit runs and capital flight,
forcing many banks to increasingly resort to central bank liquidity support. The large
depreciation of the rupiah in recent weeks has raised the concern that these problems will
only intensify.

25. In these circumstances, the government believes that re-establishing confidence in the
ability of the banking system to meet its commitments and play its intermediation role is of
paramount importance. Therefore, Bank Indonesia is working closely with the AsDB, IMF,
and World Bank staff to establish and expeditiously implement uniform, transparent and
equitable rules for resolving liquidity and solvency problems, of private banks. These
measures will be announced shortly. The central bank will provide liquidity support to banks
subject to increasing conditions, while ensuring that liquidity support extended to banks will
be consistent with the program’s monetary growth objectives.

26. With technical assistance from the World Bank, the government has also taken steps
to resolve the problems of the state banks and ensure their safety and soundness. The aim of
this program is to improve their efficiency and subsequently privatize them. Toward this
objective, the government announced in December 1997 that BTN will become a subsidiary
of BNI and that four state banks, Bapindo, Bank Bumi Daya, BDN and Bank Exim, will be
merged. The government will ensure that the merger process will be used to downsize the
operations of the merging banks, sell redundant facilities and bank branches, reduce
excessive manpower, economize on automated systems, maximize benefits from
complementary strengths, and prepare the institutions for privatization. The state banks will
not be recapitalized except in conjunction with privatization. The government will ensure
that, until privatization, the state banks perform according to criteria detailed in performance
contracts, prepared by the Ministry of Finance (Directorate General for State Enterprises)
with assistance from the World Bank, by end-March 1998. These contracts will spell out the
objectives of the management of each institution and form the basis for assessing
performance.

27. In support of the ultimate goal of full privatization of all state banks, the
government will introduce legislation by end-June 1998 to amend the Banking law in order to
remove the limit on private ownership. The new bank formed from the merger of the four
state banks will be staffed by new managing directors. This new management will be in place
by end-February 1998 and will formulate and implement a plan for interim operations of the
four merging banks including a timetable for the final merger. Foreign strategic partners will
be sought for the merged bank to assist in attracting other private sector participation and for
eventual privatization. The timetable for privatization for all the state banks will be
determined in consultation with the IMF and the World Bank.

28. As preparation for the mergers and acquisition process, as well as for privatization,
all state banks (including those that will not be merged) will conduct portfolio, systems,
and financial reviews to internationally acceptable standards using teams from internationally
recognized audit firms. These reviews will be initiated by end-February 1998 and completed
by end-June 1998. Subsequent reviews will be conducted annually. The portfolio, systems,
and financial reviews will serve to appraise the value of the assets and establish a basis for
segregation of good and bad assets, according to uniform criteria and procedures. In addition,
a financial plan for funding of bad debts of the state banks will be prepared with the
assistance of the World Bank by end-July 1998. A new asset resolution entity will be
established by end-March 1998, and made fully operational by end-July 1998. This entity will
receive the bad debts of state banks and will concentrate solely on debt recovery within a
defined time schedule.

Strengthening the legal and supervisory framework for banking

29. The government is firmly committed to improving the supervision of the banking
system. Enforcement of prudential regulation has been strengthened through establishment of
a graduated system of penalties for noncompliance, culminating in the withdrawal of banking
license. Capital adequacy rules are being enforced within the context of the bank
restructuring strategy, and in the case of the non-foreign exchange banks, minimum capital
requirements will be increased gradually to put them on par with the foreign exchange banks.
New loan classification and provisioning guidelines have been prepared and loan loss
provisions will be made fully tax-deductible by end-March 1998. The reporting and
monitoring procedures for foreign exchange exposure of banks have been upgraded and the
limits strictly enforced. The central bank’s capacity for risk-based supervision will be
further strengthened with technical assistance from the IMF and the World Bank. Beginning
in March 1998, internationally-recognized specialists are to provide active support in on- and
off-site supervision. Moreover, to eliminate the conflict of interest inherent in central bank
ownership of banks, Bank Indonesia has established a program for divestiture of its interests
in private banks, and has already made substantial progress towards this goal.

30. To further strengthen the policy and institutional infrastructure for banking, the
government has taken steps to:

(a)

revise the legal framework for banking operations, after a thorough review of central
bank and banking laws as well the company law and liquidation regulations, which will be
completed by end-September, 1998. Areas of focus will include, bankruptcy, banking
disclosure, taking and realizing collateral, and regulations on financial instruments. Action
plans to improve the legal framework will be prepared by the end of 1998 with the help of the
IMF and the World Bank.

(b)

improve transparency and disclosure in banking. To this end, the government will
immediately require all banks to publish audited financial statements annually. Bank
Indonesia will also review the adequacy of data provided in banks’ condensed
biannual balance sheets with a view to improving the dissemination of information on the
financial condition of individual banks. The government will also require banks to regularly
publish more comprehensive data on their operations, after a transition period that is expected
to be less than two years. Banks wishing to publish such data prior to the end of the
transition period would be free to do so.

(c)

level the playing field for foreign investors in banking. As part of its WTO
negotiations for liberalizing trade in financial services, the government has decided to: lift
restrictions on branching of foreign banks by February 1998; in addition, it will submit to the
Parliament a draft law to eliminate restrictions on foreign investment in listed banks by June
1998.

(d)

eliminate all restrictions on bank lending, other than those required for prudential
reasons, or those to support co-operatives and small-scale enterprises (the KUK
scheme).

C. Structural Reforms

31. In November, the government set out an ambitious strategy of structural reform,
aimed at bringing the economy back to a path of rapid growth, by transforming the
"high-cost economy" into one which would be more open, competitive, and
efficient. To achieve this transformation, the strategy called for foreign trade and investment
to be further liberalized, domestic activities to be further deregulated, and the privatization
program accelerated. At the same time, it envisaged that measures would continue to be taken
to alleviate poverty.

32. The government has already made considerable progress toward the strategy’s
objectives. In November, a major step was taken toward opening up the economy and
increasing competition, when BULOG’s import monopoly over wheat and wheat flour,
soybeans, and garlic were eliminated. To ensure that final consumers obtained maximum
benefits from this reform, importers were allowed to market all of these products
domestically, except wheat (until recently; see paragraph 44 below). Similarly, to ease the
adjustment costs for farmers, tariffs were simultaneously introduced on all of these products,
but these rates were limited to 20 percent or less, and will be reduced to 5 percent by 2003.

33. In addition, two other important structural measures have also been taken under the
program. First, in November, the administrative retail price for cement was eliminated,
thereby improving the degree of competition in this industry, and immediately reducing
prices for construction firms and consumers. Second, the medium-term tariff reduction
program was extended to cover two key additional sectors, chemicals and metal products.
Tariffs on most chemical products have already been reduced by 5 percentage points,
effective January 1, 1998 while those on steel/metals will be lowered beginning January 1,
1999. In line with the overall program, further reductions in these tariffs are scheduled for
subsequent years, so that by 2003, the maximum tariff on these products will be brought
down to the medium-term target of 10 percent.

34. Despite this steady progress, the economic crisis has deepened during December and
early January, making it clear that bolder, and faster, reform will be necessary to overcome
the economy’s problems. Accordingly, the government has decided to reinforce its
structural reform program, by accelerating some of the measures that were earlier planned,
and by supplementing them with additional actions.

Foreign Trade and Investment

35. Over the past two months, it has become evident that the drought afflicting the
country is the most severe in half a century, and requires emergency measures. Accordingly,
to ensure that adequate food supplies will be available to the population at reasonable prices,
the government has decided to go beyond the original program strategy, and include
agricultural goods in the general program of tariff reduction (leaving motor vehicles as the
only exception). As an immediate measure, tariffs on all food items have been cut to a
maximum of 5 percent, while local content regulations on dairy products have been
abolished, both effective February 1, 1998,. At the same time, tariff rates on non-food
agricultural products will be reduced by 5 percentage points, and will gradually be reduced to
a maximum of 10 percent by 2003.

36. At the same time, as another major step in assuring a level playing field, on February
1, 1998, all import restrictions on all new and used ships were also abolished. All other
remaining quantitative import restrictions, other than those which may be justified for health,
safety, environment and security reasons, and other nontariff barriers that protect domestic
production, will be completely phased out by the end of the program period.

37. The government also intends to phase out punitive export taxes, since these can no
longer be justified, given the country’s now-pressing need to augment its inflows of
foreign exchange. Accordingly, on February 1, 1998, export taxes on a wide range of
products—including leather, cork, ores and waste aluminum products—will be
abolished. For other products, however, export taxes cannot simply be eliminated, since they
serve as an important means of discouraging overexploitation of Indonesia’s natural
environment. In such cases, therefore, export taxes will be replaced by resource rent taxes,
which would protect the environment, while eliminating the bias against production for
export, rather than for domestic use. As a first step, in March 1998, export taxes on logs,
sawn timber, rattan, and minerals will be reduced to a maximum of 10 percent ad
valorem, and appropriate resource rent taxes imposed. At the same time, similar steps
will be taken for all of the remaining items currently subject to an export tax: the levies on
exporting will be abolished and replaced by resource rent taxes, where appropriate.

38. The government will also eliminate all other types of export restrictions, such as
quotas, by the end of three years. The only exceptions will be for those restrictions imposed
for health and security reasons, as well as time-bound, temporary, measures introduced in the
event of occasional domestic shortages—such as the recently imposed export ban on
palm oil. This ban will need to be retained through the first quarter of 1998, to ensure
adequate domestic supplies of palm oil and restrain price rises. After March, however, it will
not be renewed, nor will the previous system of export quotas and punitive taxes will
be reintroduced. Instead, palm oil will be subject to export taxes at rates not exceeding 20
percent.

39. Another pressing need in the current circumstances is to encourage foreign
investment. Accordingly, the government has decided that in June 1998 it will issue a revised
and shortened negative list of activities closed to foreign investors. As part of this process,
the government has removed restrictions on foreign investment in palm oil plantations on
February 1, 1998 while those on wholesale and retail trade will be lifted by March 1998.

Deregulation and Privatization

40. The second major thrust of the structural reform strategy will be to deregulate and
privatize the economy, in order to promote domestic competition and expand the scope of the
private sector. As a first, bold step, all of the existing formal and informal restrictive
marketing arrangement—including those for cement, paper, and plywood—will be
dissolved, as of February 1, 1998. Henceforth, no firm will be forced to sell its product
through a joint marketing organization, nor be required to pay fees or commissions to it.
Neither will any organization be allowed to assign exclusive marketing areas, or to dictate
production volumes or market shares to individual enterprises. In the case of cement, internal
and external trade restrictions have also been eliminated, so that traders are now free to
purchase and distribute all brands of cement in all provinces and export without acquiring
permits other than a general exporters’ license.

41. Similarly, trade in agricultural products is also being deregulated. Effective February
1, 1998, traders will have the freedom to buy, sell, and transfer all commodities across district
and provincial boundaries, including cloves, cashew nuts, oranges, and vanilla. In particular,
traders will be able to buy and sell cloves at unrestricted prices to all agents, effective
immediately, and the Clove Marketing Board will be eliminated by June 1998. The system of
quotas limiting the sale of livestock will be abolished by September 1998. Furthermore,
provincial governments will be prohibited from restricting interprovincial or intraprovincial
trade, effective February 1, 1998.

42. To support export expansion the government is now enforcing the prohibition of
retribusi (local taxes) at all levels on export goods. To strengthen competition and
market integration, government will develop and implement a one-year program for
abolishing taxes on interprovincial and inter-district trade. Any loss of local government
revenue will be addressed through a combination of local fuel taxes and transfers from the
central government.

43. BULOG’s monopoly will be limited to rice. Earlier, the government had
planned that, following the November 1997 liberalization of wheat imports, domestic millers
should distribute their flour through BULOG for a 3-5 year transition period. Now, however,
we have decided to eliminate this requirement, while flour millers will be permitted to sell or
distribute flour to any agent, both effective February 1, 1998. Also, effective the same date,
all
traders will be allowed to import sugar and market it domestically, while farmers will be
released from the formal and informal requirements for the forced planting of sugar cane.
This major measure will have a number of important economic benefits. It will rationalize
sugar production, enabling old and inefficient government mills to be closed. It would
increase rice output, as farmers switched from growing cane on irrigated land to producing
higher value-added paddy. And it would increase the efficiency and competitiveness of
sugar-using industries, such as food processing.

44. In parallel with these efforts to increase private sector productivity, the government is
undertaking a public sector expenditure and investment review in order to promote a more
efficient use of government resources. This review, which is being carried out in
collaboration with the World Bank, will be completed by June 1998 and will result in a
comprehensive program to improve fiscal efficiency, and restructure state-owned enterprises
and strategic industries.

45. This review will also be the basis for an accelerated program of privatization.
Already, oversight of public enterprises was moved to the Ministry of Finance from line
ministries and a Privatization Board has been established. A clear framework will be
established for the management and privatization (either through share flotation or negotiated
enterprise sales) of government assets by April 1998, including: (i) criteria for determining
whether enterprises should be closed, restructured or fully privatized; and (ii) a transparent
sales process that maximizes the return to government and treats all bidders equally.

46. Within this framework, the government aims to accelerate privatization and to take
decisive action to restructure or close poorly performing enterprises. Twelve enterprises will
be prepared for listing during the first year of the program. In all of these cases, the
government intends to go beyond the recent pattern of seeking minority shareholders in
public enterprises, by selling controlling, or even complete, stakes to the private sector. In
addition, further tranches of government-controlled shares in public enterprises which are
already listed will be offered for sale, so that these enterprises, too, can be fully
privatized.

47. As for those enterprises remaining within the public portfolio, clear profit and
performance targets will be established, which will be made public and reported upon
annually. Nonviable enterprises will be audited by end-1998 and nonviable enterprises
closed. Progress in this area will be assessed at the time of the second review.

Social Safety Net

48. Indonesia has made significant progress in alleviating poverty over the past 30 years.
Yet large numbers of poor still remain, and it is imperative that the adjustment program does
not result in a worsening of their economic and social conditions. To some extent, the
depreciation should benefit the rural poor by raising output prices in the export-oriented
agricultural sector. Nonetheless, the poor are likely to suffer extensively from the economic
crisis, particularly as it has been compounded by an unusually severe drought. In
these circumstance, special government initiatives will be necessary. In particular, the
government plans to introduce community-based work programs to sustain the purchasing
power of the poor in both rural and urban areas.

49. In addition, efforts to target assistance to the poor will be intensified, including by
expanding the program for the least developed villages, initiated in 1994, which has proved
to be cost effective in creating rural infrastructure and expanding employment opportunities
for the poor. Moreover, poverty eradication and more equal income distribution are to be
major themes of the next five-year development plan, which begins in 1999. In particular,
budgetary allocations for social spending will be increased, so as to ensure that all
Indonesians receive at least nine years of education and better basic medical services.

Environment

50. To strengthen overall environmental sustainability, the government will draft and
establish implementation rules for the new environmental law by March 1998. In addition,
government will review and raise stumpage fees, auction concessions, lengthen the
concession period, and allow transferability by June 1998, and will implement performance
bonds and reduce land conversion targets to environmentally sustainable levels by the end of
1998. To improve air quality, the government is accelerating its program for conversion to
cleaner fuels, including unleaded gasoline, to meet the President’s 1999 deadline.